Why I'm avoiding the SBI Cards IPO 🤐

The SBI Cards IPO has been receiving a lot of attention, certainly the most since IRCTC. It closes tomorrow (Thursday, 5th March 2020).

After a dismal 2 days of subscription from institutional investors, the IPO got heavily over-subscribed today, i.e. Day 3. This was largely driven by Qualified Institutional Buyers (QIBs), which comprise of Mutual Funds, FIIs/DIIs, Banks, etc.

But I have a contrarian view here: I’m staying away from this IPO for 2 key reasons:

1. Valuation: when compared to global peers, this seems even more valuable compared to established peers like Amex & Discover. Heck, it’s P/E ratio is even higher than that of established credit card companies like AMEX & Discover.

Anyone who has used either of these cards would know how much more premium their cards & services are (Since 2008, Discover actually owns Diner’s Club, the company which created the very first credit card & started the entire industry).

Not only that, SBI Cards’ P/E ratio is even higher than that of established leaders in the payments/cards space like Visa & Mastercard. And as BloombergQuint points out:

“Mastercard Inc. and Visa Inc. aren’t strictly comparable as they have a fee-based revenue model and do not incur credit risk .”

2. (Suspected) Reasons Behind IPO: Initial Public Offerings (IPOs) are usually done to raise money, so that the company can has additional capital to grow their business. This happens when the company offers new shares to the general public.

However, while the SBI Cards IPO has an issue/offering size of ₹10,354.77 crores, only about ₹500 crores of that is in the form of new shares. That’s less than 5%.

The rest ₹9,854 crores is coming from existing shareholders cashing out their stake. Now, this is another reason why many companies list on exchanges, so that existing shareholders can exit in some way. But it also shows the real reason behind the IPO isn’t that the company needs additional cash - their backers just want out.

While that’s absolutely fine, it just so happens that currently SBI Cards has only 2 large shareholders: 74% is owned by SBI, and 26% is owned by a subsidiary of The Carlyle Group.

Now, if you haven’t heard of the The Carlyle Group, they are one of the largest Private Equity (PE) investors in the world. And if you haven’t heard of PE firms in general, well, they’re famous for generating high returns for their investors - and really infamous for not caring how they do it.

And The Carlyle Group is as good (and bad) as they get, in my opinion at least. An investigation from Washington Post showed that when they took over hospitals, how the healthcare standards were deliberately reduced in order to increase margins & profits.

They acquired their stake 26% stake in SBI Cards in 2017 from General Atlantic for about ₹2,000 crores. This had then valued the company at a little under ₹7,700 crores (₹2,000 crores ÷ 0.26).

At the current IPO price, SBI Cards is now valued at a whopping ₹71,000 crores, at the higher pricing end. For Carlyle Group, that’s an astonishing 9X returns in about 2.5 years. And now, they’re cashing out 10% (which is ~40% of their 26% stake) via this IPO, while SBI Cards is encashing just 4% despite being the much-larger shareholder.

Clearly, this is great for The Carlyle Group - but this doesn’t mean that they’ve created a good business in SBI Cards. In fact, many analyses suggests that while they’ve managed to aggressively grow the number of customers, the quality of their customers (in terms of average spends, transactions, etc.) is actually quite sub-standard.

See, for companies, IPOs aren’t ultimately about what the value of their business is - instead, it’s about how much they can sell it for, as Prof. Aswath Damodaran of NYU Stern says.

And all these combined are strong signals for me that say this is exactly what is happening here as well. It’s not about what the valuation of the SBI Cards is, which is inflated in so many ways to begin with. It’s about how much they can sell it for. That, combined with the fact that The Carlyle Group is the seller, I’m more than happy to stay away from it.

And the other crucial reason I’m staying away is the one risk which I feel not many are genuinely considering - the risk of markets selling-off in the near future due to the impact of coronavirus. Not just Indian markets, but those all across the globe. Such broad sell-offs negatively impact even the best of stocks, and it’s something I feel is inevitable.

But there’s a bright side here as well - it seems the grey market premium for SBI Cards shares is currently at about 20% or about ₹150. While this has fallen from the earlier 40%, it’s still quite high - especially if one is as skeptical about this as I am.

The grey market for IPOs is effectively a legal market where individuals can get into contracts to sell all the shares they’re allotted in the IPO to a specific buyer at a specific price that is usually above the issue price.

So, these are the 3 main reasons why I’m staying away from the SBI IPO. While the current subscription numbers & grey-market premium suggest gains on listing day, I have serious reservations about its current valuation & the sustained gains this firm can offer.

Happy investing!

-Vikas Bardia, CFA

PS: What are your thoughts on the SBI IPO? Are you participating, avoiding - or reconsidering after reading this newsletter? Did you even know of the existence of a grey-market for IPO listings? Tweet me your thoughts @vikasbardia. Also, please note that none of this is investment advice - and nor should be considered as such.